Phase III of Year 2000 Supervision Program
February 8, 1999
Circular No. 11135

To the Chief Executive Officers of all State Member Banks, Bank Holding Companies,
Edge and Agreement Corporations, and Branches and Agencies of Foreign Banks
in the Second Federal Reserve District, and of all Information System Service
Providers Supervised or Examined by the Federal Reserve:

As time grows shorter for financial institutions to achieve Year 2000 readiness, the Federal Reserve is intensifying its supervision program for the financial institutions it supervises. Phase II of the Federal Reserve's Year 2000 supervision program, which focuses on testing, remediation, and contingency planning, is well under way, and will end on March 31, 1999. The final phase of the Year 2000 supervision program - Phase III - will then begin on April 1, 1999 and run through the end of the year. These phases of the supervision program are the most critical for assessing a banking organization's likely readiness for the century date change.

The supervisory letter describes Phase III of the Federal Reserve's Year 2000 supervision program. It also describes the Federal Reserve's enhanced internal Year 2000 monitoring program and follow-up enforcement action guidelines that are being implemented immediately. In addition, the supervisory letter reaffirms the Federal Reserve's applications policy regarding restrictions on expansionary activities by financial institutions whose Year 2000 compliance efforts are rated less than satisfactory.

Phase III Supervision Program

The Federal Reserve's Phase III Year 2000 supervision program calls for our examiners to implement risk-focused Year 2000 reviews of financial institutions during the second and third quarters of 1999, focusing on efforts to comply with the Federal Financial Institutions Examination Council (FFIEC) milestone dates and with guidelines pertaining to testing, implementation, and contingency planning. In addition, financial institutions that present the greatest Year 2000 risk to key financial and payment systems in the United States will be subject to at least monthly contacts, and the top 50 bank holding companies will be subject to at least quarterly contacts, to ensure that implementation is completed, and appropriate contingency plans are up-to-date. Service providers and software vendors will continue to be subject to at least quarterly contacts to review the status of third party testing and contingency planning. On-site reviews will be performed at service providers and software vendors previously rated less than satisfactory or that appear to have experienced a significant change in condition. Results of these reviews will continue to be distributed to serviced financial institutions.

Follow-Up Enforcement Actions

The SR letter articulates broad criteria under which it will be presumed that an enforcement action will be initiated by the Federal Reserve against an institution that receives a less than satisfactory rating after a Phase II or Phase III review. Under the guidelines set forth in the enclosure, banking organizations rated as "needs improvement" or "unsatisfactory" for serious violations of FFIEC Year 2000 compliance standards will be subject to public formal enforcement actions addressing their deficiencies. Such actions may, depending on the seriousness of the deficiency and the time left before the century date change, include the issuance of a cease and desist order for significant violations of FFIEC standards, or the assessment of a civil fine for failure to comply with previous supervisory orders or directives.

Applications Policy

As in Phases I and II of the Federal Reserve's Year 2000 supervision program, banking organizations considering mergers and acquisitions, or seeking other regulatory approvals should take into account their ability to ensure the Year 2000 readiness of the consolidated organization, as well as their own compliance with the FFIEC's Year 2000 guidelines. Potential applicants with less than satisfactory Year 2000 ratings will be instructed to continue to consult with appropriate Reserve Bank officials regarding mergers, acquisitions, and other expansionary plans prior to entering into such proposals, or publicly announcing them.

It is essential that each banking organization consider its Year 2000 readiness as one of its highest priorities. Accordingly, bank boards of directors and senior management are strongly encouraged to take the steps necessary to ensure Year 2000 readiness and compliance with the FFIEC guidelines. In the event you have any questions regarding the Federal Reserve's Year 2000 supervision program, please contact Sarah Dahlgren or George R. Juncker, Vice Presidents, Bank Supervision Group, or Ira Adler or Joseph Galati, Examining Officers, Advisory and Technical Services.